This paper reviews the theoretical foundations of residual income as a tool for evaluating a firm's interim performance for purposes of assigning incentive compensation. Although residual income can be easily linked to the discounted cash flow model of firm valuation, it bears no necessary...

We study the problem of compensating a manager whose career concerns affect his investment strategy. We consider contracts that include cash, shares, and call options, focusing on the role of options in aligning incentives. We find that managers are optimally paid in cash, supplemented by a...

In Velez-Pareja, (1999b and 1999c), some difficulties of EVA as an approach for the measurement of economic added value were considered. In those papers, the use of real economic value added based on the real free cash flow was suggested. This means the real cash flow calculated from the...

We examine whether executive stock options (ESO) encourage managers to make risky investments on behalf of shareholders. For a sample of oil and gas producers, we find, as predicted, that the variance of cash flows from exploration activity and the extent of price risk exposure hedged are...

This paper examines a multiperiod principal-agent model in which a divisional manager has superior information regarding the profitability of an investment project available to his division. The manager also contributes to the periodic operating cash flows of his division through personally...

We examine the effect of stock options on managerial incentives to invest. Our chief innovation is a model wherein firm value and executive decisions are endogenous. Numerical solutions to our model show that managerial incentives to invest are multi-dimensional and highly sensitive to option...

This paper considers the effect of competition for scarce financial resources on managers' incentives to generate profitable investment opportunities. Competition is only unambiguously beneficial if projects are symmetric. If divisions differ in their cash endowments or their growth potential,...

This paper develops a theory of capital allocation in opaque financial intermediaries. The model endogenizes risk management and capital structure decisions, and it provides a simple setting within which to address questions relating to capital budgeting, performance measurement, and employee...

This short paper studies the Economic Profit, a different label for the Economic Value Added, EVA. Copeland et al. (1995) show that the present value of the free cash flow and the present value of EVA (Market Value Added MVA) are not the same, unless the present value of future EVA (they call it...

A company may acquire shares in another corporation to discipline the target management and improve target performance, or to gain inter corporate perquisites such as higher dividends and favorable business deals to the detriment of the other shareholders of the target firm. We investigate the...